Time-consistency of risk measures with GARCH volatilities and their estimation

Abstract In this paper we study time-consistent risk measures for returns that are given by a GARCH(1,1) model. We present a construction of risk measures based on their static counterparts that overcomes the lack of time-consistency. We then study in detail our construction for the risk measures Value-at-Risk (VaR) and Average Value-at-Risk (AVaR). While in the VaR case we can derive an analytical formula for its time-consistent counterpart, in the AVaR case we derive lower and upper bounds to its time-consistent version. Furthermore, we incorporate techniques from extreme value theory (EVT) to allow for a more tail-geared statistical analysis of the corresponding risk measures. We conclude with an application of our results to a data set of stock prices.